How much Income Tax you can save by availing home loan

By Investment Blogger, on August 15th, 2011

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A stage in life comes when home loan starts looking very lucrative. The rule of investing your money is ‘start saving’ and in order to save, the first step is to ‘save income tax’. Government of India has allowed citizens to save on income tax, one of the best example is Home Loans. It in Indian Government’s initiative to motivate people to buy their own house. Not only it is good for the individual/family who buys a home for themselves but also triggers the whole economy for the country. This way the government plays a bargain, you buy a house and in turn get income tax benefits. In this article we see how home loans will help you save income tax.

According to Indian income tax act of India, an individual can avail income tax deductions on their taxable income on account of home loan under section:

- Section 24(b) of the Income Tax Act, 1961 &
- Section 80(c) of the Income Tax Act, 1961

When we avail a home loan, we are obliged to repay it back to the banks in the form of ‘Equated Monthly Installments (EMI)’. This EMI has two parts, one is called principal repayment and the other is Interest charged on principal. Suppose your monthly EMI is Rs 100, then Rs 25 will be your principal in first year and Rs 75 will be the principal.

Sec 24(b) of the Income Tax Act, 1961
The main benefit comes from this section, where the Interest Portion of your ‘Equated Monthly Installments (EMI)’ is directly deducted from your taxable income. Suppose you have availed a home loan of Rs 40 Lakhs for 15 years @ 11% interest. Your monthly EMI will be approximately Rs 40,000 per month. Out of this Rs 40,000, in the first year the interest will be Rs 37,000. Over a period of time (year after year) the interest portion reduces. So in our example, in the first year when the interest portion is maximum, total interest paid in a year is Rs 37,000×12= Rs 440,000. Put of this Rs 440, 000, government of India has allowed a standard deduction of Rs 150,000 from your taxable income. We will see this in a more detailed example later.

Section 80(c) of the Income Tax Act, 1961
Another chunk of savings is also possible under section 80 (c). The principal portion of the ‘Equated Monthly Installments (EMI)’ is used as a standard deduction. But of course there are some conditions applicable here. It is worth noting here that as a salaried individual you must already been doing some tax savings under section 80 (c). Some common savings are like Provident Fund, LIC, EPF etc. The maximum savings cap of Rs 100,000 is applicable on 80 (c).

Let us take an easy example to understand how much you can save from home loan
As on Today suppose your condition of taxes look like this

Taxable Income	Rs 10,00,000 per year
Savings already under section 80 (c)	Rs 80,000 per year
Savings already under section 24 (c)	NIL
Tax Paid per year	Rs 124,000 (Rs 10,300 /mon)

Suppose you have applied for home loan of Rs 40 Lakhs for 15 years @ 11% interest.

Monthly EMI	Rs 42,000/ month
Interest in year (1)	Rs 440,000
Interest in year (2)	Rs 411,000
Interest in year (3)	Rs 382,000
Principal each year	Rs 266,667

So let us see how your income tax savings will look like in year 1

Year one
Interest Paid = Rs 440,000, allowable deduction = Rs 150,000 per year

Principal paid = Rs 266,667, allowable deductions = Rs 100,000 per year (but you are already doing savings worth Rs 80,000, so the tax deduction you will get due to principal portion is only Rs 20,000 per year).

Taxable Income before home loan	Rs 10,00,000 per year
Additional Savings under section 80 (c)	Rs 20,000 per year
Savings already under section 24 (c)	Rs 150,000
Taxable Income after home loan	Rs 8,30,408
Tax Paid per year	Rs 73,122 (Rs 6,094/mon)

Tax Paid Earlier	Rs 124,000 (Rs 10,300/mon)
Tax Paid After Home Loan	Rs 73,122 (Rs 6,094/mon)
Savings	Rs 4209 per month

Conclusion
The benefit of home loan for your first house is immense. In case you are living on a rented apartment, then monthly rent you are paying to the owner is adding no value to you. Except for the fact that you are getting a shelter over your head, the money paid as rent is of no other valued. But in case you buy a house, you can use this rental income to buy a shelter for yourself and also you are contribution in creation of a long term asset. Your first house will also be emotionally very enriching for you, it can motivate you to accumulate many more such assets in future. On top of this, social security you gain from possessing a house for self is immense.